3 Simple Investing Lessons From Peter Lynch

In the lead-up to Sept. 25's Worldwide Invest Better Day, The Motley Fool is reacquainting investors with the basic building blocks of investing. In light of that, who better to consider than one of the most Foolish investors of all?

Peter Lynch put together one of the greatest investing track records of all time, while serving as the portfolio manager of Fidelity's Magellan Fund. An ordinary investor who put $1,000 in the fund on the day Lynch took over would have had roughly $28,000 by the time Lynch stepped down 13 years later.

Despite those truly remarkable returns, Lynch was a passionate believer in the notion that the normal investor can pick stocks better than the average Wall Street professional. In fact, he argued that the retail investor had numerous advantages that might allow him or her to outperform both the experts and the market in general.

You need to do certain thingsLynch did not say, however, that it would be easy for retail investors to outperform. He believed they could do the job very well, but that they had to do certain things. Below are three simple lessons from Lynch that will assist ordinary investors in their quest to beat the market:

1. Do the work. Peter Lynch is very well known, of course, for recommending that investors "buy what they know." According to this principle, investors may want to invest in that busy restaurant on the corner that always seems crowded on Friday night.

Perhaps less well-known about Lynch is that he expected investors to understand their businesses before putting their money in them. In his classic bookOne Up On Wall Street, he recommended that you should "never invest in any company before you've done the homework on the company's earnings prospects, financial condition, competitive position, plans for expansion, and so forth."

Amazon.com (Nasdaq: AMZN) provides a great example here, I think. Many of us are dedicated users of the online retailer, so why wouldn't we want to invest our money in the company as well? Before doing so, however, investors might want to know why the company's profit margins are so low, and how the company intends to increase those margins over time. Finally, investors should feel comfortable with Amazon's valuation too before buying shares in it.

Lynch was an indefatigable worker himself, who felt that -- borrowing from Edison – "investing is ninety-nine percent perspiration." In general, he believed that you need to "know what you own" and just thinking it will go up "doesn't count." As a result of this belief, Lynch figured that a part-time stock picker probably only has time to follow eight to 12 companies. And he warned that "if you don't study any companies, you have the same success buying stocks as you do in a poker game if you bet without looking at your cards."

2. Use your edge. Lynch strongly believed that everyone has an edge that can allow them to outperform the experts. The key is to utilize your edge by investing in companies or industries that you understand well.

He recommended that individuals identify three to five companies that they could know very well. You could study them; lecture on them; and understand their stories intimately. Ultimately, Lynch felt that ordinary folks need to discover their personal edge, whether it's a profession or hobby or even something else, like being a parent.

When I started out as an investor, Procter & Gamble (NYSE: PG) was a stock I felt I had a considerable edge with. My grandfather had worked for the company for over 30 years, and my grandmother held quite a few shares of the company. As a kid, I always talked with her about new products and challenges facing the business. When I first began buying stocks, I always felt extremely comfortable having P&G in my portfolio. Each of us probably knows a company or two like that, and we must use that edge to our advantage.

3. Be patient. Being patient and investing for the long term should be the simplest investing lesson of all. Sadly, it's one of those things that is easier said than done. In 1960, the average holding period for a stock was eight years; nowadays, it's just four months.

Lynch often said that he had no idea what the market would do in one or two years. But he was confident about what stocks would do 10, 20, or 30 years from now. He truly believed that time was on the side of the retail investor, and that's why he was an enthusiastic proponent of long-term investing.

And yes, he was aware of some long time frames where the market didn't do well. In an interview with Frontline, he referred to the period from 1966 to 1982 when the market was flat for the most part. But Lynch noted that you'd have still received dividends from your stocks. He also felt that corporate profits tend to trend upward, and that investors would eventually be rewarded for that.

McDonald's (NYSE: MCD) is perhaps a good illustration of a stock that will outperform today's market. Over the past decade, the S&P 500 has been more or less flat. Going forward, however, McDonald's -- with its growing dividend and overseas expansion -- is likely to perform very well for long-term investors. Similarly, I'd be very surprised if ExxonMobil (NYSE: XOM) -- with its growing dividend and rock-solid balance sheet -- didn't do well over the next decade regardless of the performance of the overall market.

Lynch believed that it "pays to be patient, and to own successful companies." He understood that there are times when there doesn't appear to be a correlation between a company's operations and its stock price. Lynch also knew, however, that "in the long term, there is a 100 percent correlation between the success of the company and the success of its stock. This … is the key to making money."

Simple is as simple doesPeter Lynch once said, "The simpler it is, the better I like it." In a world of faster trading and ever-increasing flows of information, keeping it simple might be the ultimate edge for the ordinary investor. Always remember, though, that simple doesn't necessarily mean easy. I know I have to work a lot harder on all three of those "simple" lessons mentioned above.

Be sure to check back throughout the month for other informative articles covering a wide range of important topics. We've set up a special website at InvestBetterDay.com, and on Sept. 25, we're taking a day to celebrate the art of investing. We'd love to have you with us! Take a look at the site now and get on the path to personal prosperity.

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investing 50k a year i wanna 1day make more in dividends then i do working and when that happens im retiring and ill jsut keep addign 50k a year to stocks or more w/e i jsut wanna be rich and i think the stock market inveting in solid blue chips slow and steady is my best bet to make my 140k a year salary doing nothing

Peter Lynch's return was awesome, but also potentially repeatable in the right environment. I have a stock in mind that could return nearly 20% a year for the next 20 years. That stock is Conoco Phillips. How is it possible?

A teacher with the CPS with a bachelor's degree starts at $56k, $59k if you include pension payments that they don't see until retirement.

A teacher with a Ph. D. and 25 years of experience (the highest possible pay grade) makes $105k, $113k if you include pension payments.

Still a ways away from $140k. And the ones with a Ph. D. can probably write and spell. Not sure if it's worth it to work in the Chicago school system though. They're not all future Barack Obamas, many are future Joliet Jake Blues' without the musical talent.

If <iseeksafestocks> isn't just trying to be cute with his pretense of illiteracy I would be surprised. If he achieves his goal of $140000 retirement income from interest and/or dividends I would be even more surprised. Assuming no windfall from inheritance or a big lottery hit, he would need to contribute $50k from his earnings every year for 56 years to accumulate 2.8 mil which would get his $140k if invested at 5%. If he succeeds he could afford to hire somebody to pretend to be illiterate.

And now, time to take a break from educational matters and back to investing....

I've found that by far the cheapest way to invest cheaply is via Sharebuilder. I opted for Vanguard ETFs for core holdings, a mix of dividend blue chippers and some Hidden Gems. I set this up years ago. I also set up a Roth IRA and rollover traditional IRA.

If you opt for the "automatic investment" option, your buys are done on a Tuesday for $4 each with a no-monthly-fee Basic Program. You can also purchase a premium membership called Advantage, which runs you $12/month but you get 12 free automatic investments per month and everyone after that is just a buck. You can toggle between Basic and Advantage month-to-month with no added cost.

I keep my Roth on Basic for 11 months of the year and when contribution time comes, I turn it on to Advantage. My total investment expense for a broad basked of 15 equities ETFs and bond ETFs only costs me 15 bucks a year. I make the purchases during a market swoon, and use the new money as a rebalancing tool, adding more to some ETFs and less to some, depending on the price to keep my percentages in line.

This is really the cheapest way to do thing. Sure, it's not as easy as the 401k at work, and you do have to pay attention. But I checked out a bunch of online brokerages, and this was the best for me. Also, you can set up your setting to reinvest dividends or have the cash deposited in your account. Dividend reinvestment is free. This one really works for me. I've been delighted with customer service too, especially during a complicated rollover.

The best way to retire comfortably is to get a job in the federal government and retire with pension. The pension you receive for 20 to 30 years after retirement is well worth over 1 to 2 million. So you don't have to worry about saving a huge nest egg.

Of all the comments I have ever read maninatl is the one right on the ball. I would just add after a week of vacation he-she will find another job and double the money and take away a job that somebody else could use.

I retired from the federal government several years ago, and I would dispute maninatl's calculations. Basically, a pension is calculated at 1% of your salary for each year of service. After 30 years of service that would amount to only 30% of your salary before retirement. Fortunately, I maxed my contributions to the retirement savings program for the last few years, so I do have something to fall back on.

Unless you never go outside your home and never turn on a TV, everyone has some insider investing knowledge inside. Whether you scarf Big Macs all day or you love pumping Exxon gas in your car or you hate paying your electric bill to one of dozens of publicly traded utility companies, you know what is what. The only question is, do you realize that you DO?

I think iseeksafestocks knows what he's talking about. Jealous that he can save 50k a year? Don't be, it's not that hard.

I am new to investing but I can definitely see how he could retire off of dividends sooner than later.

One, timing his buy-backs carefully (buying more into the stocks he already owns when they're down). He would easily earn more than 5% growth a year. Two, don't auto-reinvest dividends. Instead, keep all that extra cash to buy stocks with more risk but with more upside potential. Three, don't sell when the sky falls.

The real trick is have that 50k dedicated purely to savings/investing every year. If someone can do that. They KNOW they can retire.

@cocomint - I would heavily suggest Peter Lynch's two famous books "Beating the Street" and "One Up On Wall Street". Start with One Up On Wall Strett first. Lynch takes you through how to look at stocks, reading financial reports, and more. They are my two favorite books and I usually re-read them once a year just to remind myself of some core investing lessons.

@cocomint - I agree with MHenage, the 2 Peter Lynch books are must reads for investors, but I would add 2 more: The Intelligent Investor by Benjamin Graham and Common Stocks and Uncommon Profits by Phillip Fisher.

@cocomint - there was a recent article published on this website that listed the publisher's top 10 investing books. If you take that list and add to it the recommendations posed on the comments to the article, you'll do well applying the knowledge. Disciplined behavior is the competitive advantage that successful investors possess.